Question

Price-to-Earnings ratio is often used to gauge the relative cost of one stock to another with respect to earnings. The average P-to-E (or P/E) is 15 to 25 for most companies in the market. If a company is trading with a P/E of 85, should you buy the stock? O a. Yes, the shares are cheap. b. The P/E is a bad proxy for value and is never used in reality. o c. Provided other shares in the market are still trading at the average P/E, this company's stock is relatively expensive and should not be bought at this time unless there is some reason to rationalize such a price multiple (such as large expected sales growth in the future) d. No, the shares are categorically expensive and therefore it is a bad investment.

Answer 1

Solution Stock can be evaluated on basis of their Price and Earning through P/E Ratio. The Company with more P/E Ratio shall be overvalued as compared to other companies. That means that a company with for PE ratio as compared some other company but both the company having same financials, can be said to be overvalued unless and until there are some strong reason for such over valuation. Hence, taking above discussion into consideration Option C Provided other share in the market are still trading in average P/E, this company's stock is relatively expensive and should not be bought unless there is some reason to rationalize such a price multiple (such as large expected sales growth in future) is correct.